Manufacturers See Better Times Ahead

How is manufacturing doing? Today we received two separate reports: industrial production from the Federal Reserve and the Empire State Manufacturing Survey from the New York Fed. What we see is that recent production points to tepid growth, but what is coming down the pike might be more positive.

In January, manufacturing output decreased 0.4%, after upwardly revised gains of 1.1% in December and 1.7% in November. For the fourth quarter as a whole, manufacturing production is now estimated to have advanced 1.9% at an annual rate; previously, the increase was reported to have been 0.2%. Production is 1.7% above year-ago levels.

Of course, this points to sub-2% growth for the sector in months past, roughly corresponding to real final sales more broadly. However, manufacturers tend to produce on the basis of estimates for new sales, as they try to anticipate what consumers and businesses are likely to buy in coming months so as to have enough stock on hand. Of course, another factor is how much inventory retailers and wholesalers already have. Ample inventories likely played a role in relatively softer current production. That doesn't mean that conditions going forward are expected to remain tepid.

We can look to what manufacturers expect in coming months by looking to survey data, such as the Empire State report from the New York Federal Reserve. The New York Fed district includes a greater proportion of high-tech firms than do some of the other Fed districts, so the Philly Fed survey, which includes more heavy industry and automotive businesses, may show different results when it is released next week.

In the New York Fed district, the general business conditions surged 18 points to 10.0, now in positive territory, where zero is the dividing line between expansion and contraction. The new-orders index also rose sharply, climbing 20 points to 13.3, and the shipments index increased 16 points to 13.1. And the index for number of employees rose for a third consecutive month and, at 8.1, registered its ﬁrst positive reading since September, though the average workweek index remained negative.

Twenty-nine percent of respondents reported that conditions had improved over the month, while 19% -- a signiﬁcantly lower percentage than in the January survey -- reported that conditions had worsened. In the previous month's survey, 26% of businesses reported better conditions, while 34% reported worse conditions.

And we can infer from capital-spending plans that manufacturers might be expecting even better conditions ahead. A supplemental question posed to the respondents in the Empire State survey showed that dollars budgeted to spend on new equipment and software in 2013 are up 11% from what was spent in 2012. (However, roughly the same proportion of respondents indicated that they expect to increase capital spending as said they expect to lower it.)

The most widely cited factors constraining 2013 capital investment plans were tax and regulatory considerations. We still have the sequestration -- the spending cuts by the federal government -- that look likely to take effect on March 1. Right now, Congress doesn't seem especially motivated to avoid these cuts, though efforts are under way in the Senate to address this issue.

While this likely won't cause a recession, it does mean that the federal government will be placing fewer orders from manufacturers, and this will slow economic growth more broadly. And the reversion of the payroll tax rate to its previous levels -- which can reduce many workers' take-home pay by 2% -- can very well crimp consumer spending.

Still, James Bullard, president of the St. Louis Fed, said in a recent speech, "This year seems to be characterized by less macroeconomic uncertainty compared to previous years," he said. "This bodes well for U.S. macroeconomic prospects in 2013."

And while there are headwinds from fiscal policy, the fact that we now know what is happening is sufficient to cause manufacturers to become more confident, as we see in the Empire State data. Thus, one important constraint to growth -- uncertainty -- seems to have been reduced. And that is a good thing.